Commercial Paper Buyer's Strike is RATIONAL
The sub-prime crisis has now spread to the commercial paper market, as every informed resident of this planet by now knows. The FED's repeated predictions that the sub-prime crisis was "contained" have been dead wrong. The "infection" of the commercial paper market is a "panic," according to the FED, its defenders, and its mimics in the media.
A panic, by definition, is a herd-like movement based upon the mass emotion of IRRATIONAL FEAR. However, there are times when fear can be entirely rational. Beyond its sometime rationality, it can also serve as an essential element of self-preservation.
The current "panic" can be viewed in the following way: today, according to news accounts, a large corporation whose commercial paper enjoys the very highest rating offered $3 billion of commercial paper. There were NO BIDS.
Why should this be? Is this not "panic"?
The answer, we think, lies in the credibility and the reliability of the rating agencies. Until recently, their ratings were taken with the reverence afforded words coming from Mt. Sinai. However, it now turns out that many of the securities they accorded the highest credit ratings to are junk, or near-junk. Trusting institutional investors placed many hundreds of billions of dollars and Euros in these securities solely on the basis of the ratings given them by the credit rating agencies. To put the matter charitably, these ratings turned out, in many cases, to have been grossly wrong. Huge sums of money have been lost. Is it "irrational," or a "panic" if investors are no longer willing to place their capital at risk on the basis of ratings supplied by these selfsame organizations?
We think not.
Confidence in the rating agencies, and in the true worth of the paper being rated, has been shattered, and properly so.
Since institutional buyers are often not in a position to examine exhaustively the viability of the various debt securities offered by a multitude of issuers, the course of prudence is to refrain from buying anything except absolutely trustworthy securities. Only two types of debt instruments fall into this category: Treasuries and municipal bonds.
With the disappearance of trusting buyers, the FED has no choice but to purchase AT PAR, or GUARANTEE the value and income stream of these securities. In the absence of such action, prospects for a resolution of the buyers strike will remain dim.
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